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What Is Strategic Asset Allocation?

Rebecca Lake

When it comes to asset allocation and deciding how to diversify a portfolio, there’s more than one way you can approach it. A strategic asset allocation involves setting targets for each asset class, followed by periodic rebalancing to make sure your portfolio is staying aligned with your goals. It’s an alternative to dynamic asset allocation and tactical asset allocation. How you choose to allocate assets matters, both for managing risk and achieving the type of investment returns you’re after. Knowing how strategic asset allocation is intended to work can help you decide if it’s the right path to follow.

Strategic Asset Allocation Defined

Strategic asset allocation is a more traditional way to think about asset allocation from a long-term perspective. Rather than attempting to time the market or chase trends, the focus is on keeping the balance between stocks and bonds in a portfolio aligned with a predetermined target. For example, you may be aiming for a consistent mix of 60% stocks versus 40% bonds or 30% bonds and 10% cash.

This type of allocation strategy is based on modern portfolio theory, which is all about using diversification to create an optimal risk-reward profile. In other words, the goal is getting the best returns while exposing yourself to just the right amount of risk.

As a portfolio management option, strategic asset allocation could be suited to:

  • Buy-and-hold investors who are hoping to capitalize on price appreciation over time
  • Beginning investors who want to use a passive approach for asset allocation
  • Investors who have a longer time horizon to recover from market downturns
  • Beginners who have limited investment experience and want a simplified way to manage allocation
  • Investors who tend to make emotional decisions with their portfolios

That last one is important because emotional investing can be problematic. If you panic and sell during a market drop because everyone else is selling, you could miss out on reaping returns later when the market picks back up. Or, you might miss opportunities to buy into the market at a prime time out of fear of making the wrong move.

Strategic asset allocation can eliminate those kinds of headaches. Rather than trying to keep up with market trends and which way prices are moving, you’re focused on set of numbers only: your target allocation.

How Strategic Asset Allocation Works

The mechanics of strategic asset allocation are relatively simple. You choose your target allocations and then rebalance your portfolio as needed to keep your holdings aligned with those targets. How you set those targets depends on several things, including your age, risk tolerance, investment goals and time horizon for investing.

The targets can change as you get closer to retirement. For example, an investor who’s 30 years old might be comfortable with a 90% stock, 10% bond or cash portfolio. But at age 50, their target allocation might be 60% stocks and 40% bonds or cash if they’re planning to retire in the next 10 to 15 years.

Rebalancing is what helps you keep the numbers where you want them to be. So say you have $500,000 in your portfolio and you’re aiming for a 70% allocation to equities. Stocks have a particularly good year, pushing your stock allocation to 80% instead. Using strategic asset allocation, you would want to adjust your portfolio back to the 70% mark by selling some of your stock holdings and reinvesting in bonds or cash.

A key part of making strategic asset allocation work for you is knowing where your targets should be and how often you should rebalance to meet them. For example, if you’re more of a hands-off investor you may only think about rebalancing once each year. But if you want to invest passively while still feeling connected to what’s happening with your portfolio, you might rebalance every six months or quarterly.

Strategic Asset Allocation vs. Other Allocation Strategies

Strategic asset allocation is just one way to manage a portfolio. There are other ways to go about it, based on your investment style and goals.

With dynamic asset allocation, for example, choosing an allocation is all about staying aligned with market conditions. This type of strategy is more hands-on since you’re constantly watching the market to see how various asset classes are performing. You’d then make adjustments in your portfolio based on the broader state of the market.

The end goal here is to get the best returns possible by taking advantage of market momentum. So if a particular stock is trending up, for example, you might buy into it in favor of one that’s seeing its price flatline. Similarly, if a stock you own begins to lag, you’d sell it off to reduce the potential for losses.

Dynamic asset allocation is an active investing strategy, in that it requires investors to be tuned into the market. Tactical asset allocation is also an active strategy, but it works a little differently. With tactical asset allocation, the focus is on adjusting assets in the short- to mid-term to capitalize on price increases or strong performance in a particular stock market sector. It has echoes of strategic asset allocation, in that there’s still a target investment mix you’re trying to hit, but it’s more about getting short-term wins rather than long-term growth.

Putting Strategic Asset Allocation to Work

If you’re thinking strategic asset allocation might be a good fit, there are a few things to consider before diving in. Specifically, ask yourself:

  • How long you have to invest and grow a portfolio
  • What level of risk you’re most comfortable with versus how much risk you need to take to reach your goals
  • Whether you’re more focused on growth, income or some of both

From there, you can begin building a portfolio of investments around strategic asset allocation. Remember, that means looking at more than just stocks and bonds as a whole. You should also be breaking those asset classes down further into subclasses, such as small-cap versus mid-cap stocks and municipal bonds versus corporate bonds. Each one has its own risk and reward profile so it’s important to know how likely a particular type of stock or bond is to meet your investing needs.

The Bottom Line

Strategic asset allocation offers a way to build an investment portfolio and reach your financial goals passively. Whether it’s right for you depends largely on what you want to achieve with your portfolio and whether you’re more interested in playing a hands-on or hands-off role in growing wealth for the long-term.

Asset Allocation Tips

  • Consider talking to a financial advisor about strategic asset allocation and what it can (or can’t) do for you. Finding the right financial advisor who fits your needs doesn’t have to be hard. SmartAsset’s free tool matches you with financial advisors in your area in five minutes. If you’re ready to be matched with local advisors who will help you achieve your financial goals, get started now.
  • A risk tolerance questionnaire or asset allocation calculator can be a good starting point for helping you identify how much risk you’re comfortable with. But you may not want to rely on them solely to guide your investment choices. You should also take into account your personal financial situation since factors such as whether you’re married, how much debt you have and what kind of lifestyle you hope to have in retirement can affect asset allocation choices.

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